The 'Newest' Small Caps on the Block

The relentless push higher by stocks has many an analyst scratching his or her head right now.

They can scratch away, because the bottom line is this: companies continue to beat earnings expectations. There's no way around that simple fact - so the market continues to move higher.

Check this out - through last Friday, data compiled by Capital IQ shows that 453 companies in the S&P 500 have reported, and 71 percent beat earnings expectations. The average upside surprise has been 6.1 percent.

With the S&P 500 trading at 16-times estimated 2010 earnings you might think large cap stocks are getting expensive. They're really not - in a few weeks this fiscal year will be in the books. Based on the number of companies beating earnings estimates, forward earnings estimates should increase.

Right now, you can buy the S&P 500 for 14-times estimated 2011 earnings. That's not too bad when you consider that analysts expect long-term average EPS growth for the S&P 500 to exceed 10 percent.

Remember, buying growth at a low PE is typically better, and right now many large cap stocks look attractive.

One of the best ways to find exciting small cap stocks is to monitor new additions to the small cap indices - I prefer the S&P 600 Small Cap Index, and the Russell 2000 Small Cap Index.

On February 28th, I found 2 'new' companies that were added to the S&P 600:

Navigant Consulting: (NYSE: NCI): This is a $485 million market cap company that provides specialized consulting services for things like change management, risk, and uncertainty. Its customers include hospital operator MedCath Corporation (Nasdaq: MDTH), privately held Ontario Power Authority, and the British Sky Broadcasting Group (LSE: BSY).

Why consider Navigant? Because uncertainty is virtually guaranteed these days, meaning this company should have a long list of potential customers. Also, analysts expect the company will increasing earnings by 19 percent this year. They have a price target on shares of $12.83, or 37 percent above yesterday's close.

Cardtronics (Nasdaq; CATM): Electronic payment processors have been hot stocks lately, and as an operator of ATMs and financial kiosks, Cardtronics is in the right industry. The company has a market cap of $811 million.

Analyst, earnings projections are pretty impressive for Cardtronics - the consensus estimate for normalized EPS in 2011 is $1.21, a 92 percent increase over 2010. GAAP earnings estimates are less aggressive, so I'd encourage you to investigate what's going on in the 'unusual items' section of the company's income statement. In the past year the company has paid off long-term debt and sold off some assets. In 2008, the company recorded a $50 million impairment to goodwill. All of these items impact GAAP EPS.

At first blush, these unusual items tell me the company had to get reorganized internally, and its recent addition to the S&P 600 indicates that its efforts are paying off. Four analysts rate the stock a buy with a consensus target price that is 20 percent above yesterday's close.

A word of caution before you rush out to buy anything: the market has been on a one way track higher lately. In recent sessions we've begun to see a loss of momentum, so while many stocks are still attractively valued that doesn't mean go buy everything you want right now.

Put together a watch list of stocks you want to own, and figure out the price that you want to pay. Then use volatility in the market to get your price. If you have a number of stocks ready to pounce on, than chances are your number will come up on at least a couple.

Navigant Consulting and Cardtronics are two stocks to consider, especially since inclusion in the S&P 600, or Russell 2000, can be the beginning of a longer run higher.